Academic journal article Quarterly Journal of Finance and Accounting

Market Reaction to Announcements to Invest in ERP Systems

Academic journal article Quarterly Journal of Finance and Accounting

Market Reaction to Announcements to Invest in ERP Systems

Article excerpt

Introduction

Information technology (IT) investment has expanded significantly during the past few decades; investment in information processing equipment and software grew at a compounded annual growth rate of about 25 percent between 1980 and 1999 (BEA 2002), becoming the largest category of capital investment in the US during the past decade (Ranganathan and Brown, 2006). A sizable component of that growth is enterprise resource planning (ERP) systems that promise to integrate seamlessly all information flowing through the company including manufacturing, engineering, marketing, and finance through one enterprise database (Davenport, 1998; McAlary, 1999). Each module is business-process specific, interacts with a single company-wide database, and represents a single application from user and systems perspectives (Poston and Grabski, 2001).

ERP systems are the most ambitious use of IT by businesses and incorporate best business practices into one integrated software application package that can affect every function within a business. By constructing one firm-wide database with which all applications interact, ERP systems reduce data redundancy and data errors and, as a result, significantly enhance data integrity and reliability and provide current, accurate information to all decision makers (Latamore, 2000). Moreover, ERP systems can provide high levels of process integration across interdependent organizational units (Park and Kusiak, 2005), increase throughput and delivery speed by reducing order cycle time and customer response time (Cotteleer and Bendoly, 2006; McAfee, 2002), and reduce cash-to-cash cycle times and the time needed to reconcile financial data, thereby reducing the amount of operating capital (Mabert, Soni, and Venkataramanan, 2000 and 2003). Finally, ERP investments provide growth options and can enhance a firm's agility and innovativeness (Fichman, 2004; Sambamurthy, Bharadwaj, and Grover, 2003).

ERP system implementation has not proven to be universally successful. There are many reports of failed projects (Barker and Frolick, 2003; Davenport, 1998; Gargeya and Bradley, 2005). Recent research has attempted to address the alignment of ERP systems to strategies by using an analytic network process model built on a strategic alignment model to reduce failure (Presley, 2006) that may increase the success rate of ERP implementation.

ERP systems are not only ambitious, but they also require a significant capital investment and require substantial time to implement. For example, Umble and Umble (2002) report that survey results from 63 companies indicate that the average implementation cost was $11 million and took 23 months to complete. META Group (2003) reports that the average cost of an ERP system was $17.5 million and required 20 months to implement. Thus, ERP systems should be subject to review in the capital budgeting process.

Despite numerous studies on the announcement effect of IT investments in general, few studies examine the announcement effect of ERP system implementations. (1) Results of IT announcements in general present mixed findings on the announcement effect for all announcing firms and subgroups based on firm size and industry. Examination of the announcement effects for ERP announcements is limited. Hayes, Hunton, and Reck (2001) use conventional event study methodology to examine abnormal returns around ERP investment announcements. They report that the market reacts positively to ERP announcements, that the effect is largest for small/healthy firms, and that only large ERP vendors produce significant market reaction. Ranganathan and Brown (2006) also study ERP announcements but focus on differences in the announcement effect due to project-specific variables such as functional scope, physical scope, and vendor status.

Our focus is to extend the research of Hayes, et al. …

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